Separately, HDFC Mutual Fund has filed a scheme info doc (SID) for an actively managed micro-cap fund referred to as HDFC Emerging India Opportunities Fund underneath the thematic class. This fund may have a broader funding universe with shares past the NSE 500 firms, together with these listed on the NSE EMERGE and BSE SME platforms.
Other asset administration firms (AMCs) in India might comply with swimsuit and launch funds within the micro-cap house. To make certain, there isn’t any particular classification for the micro-cap phase. The Securities and Exchange Board of India (Sebi) has categorized the primary 100 shares primarily based on market capitalization as large-cap, shares ranked between 101 and 250 as mid-cap, and people past 250 as small-cap firms.
Investing in micro-cap firms comes with increased dangers as a result of inherent nature of their companies and their measurement. There can be the potential for firms getting delisted from this phase.
“Micro-cap shares come underneath the high-risk, high-return class. These firms have huge info points. We can’t actually touch upon their governance as a result of we don’t know what’s actually happening. And sometimes, there tends to be wild swings within the inventory costs. Liquidity is one other huge challenge,” said Anubhav Srivastava, managing partner at Aryzen Capital Advisors.
While returns on investments in the micro-cap space could be higher in the long run, these investments are highly volatile and prone to fluctuations in the short term.
According to the rolling return analysis data given by Motilal Oswal MF for the period from 2010 to 2023, the average five-year return and 10-year return of the Nifty Microcap 250 Index were 13.4% and 15%, respectively. In comparison, the Nifty Smallcap 250 TRI Index achieved returns of 11.6% and 12.5%, respectively, over a similar period.
Here’s how the indices performed during stressful times in the market. Historically, the small- and micro-cap segments have experienced a deeper and longer drawdown. For instance, during the global financial crisis from January 2008 to October 2008, the micro-cap index plummeted a staggering 76%. During the same period, the Nifty Small Cap and the benchmark Nifty 50 TRI indices experienced corrections of 70% and 60%, respectively. A similar pattern emerged during the market decline amid the covid crisis in 2020 as well.
Therefore, investing in the micro-cap space is only suitable for individuals who can stomach high levels of volatility and maintain a longer investment horizon. Even on a five-year basis, the micro-cap index delivered negative returns 15% of the time (9% for small-cap) between April 2010 and May 2023.
Funds in India
Currently, while there are no open-ended equity mutual funds in India specifically focusing on micro-cap stocks, note that the existing small-cap funds have about 10% to 45% exposure to stocks ranked beyond NSE 500 depending on the fund we choose.
Before Sebi’s recategorization of mutual funds in 2018, the present DSP Small Cap Fund in its previous avatar was called DSP BlackRock Micro Cap Fund. Launched in 2007, the fund had the mandate to invest at least 65% of the portfolio in micro-cap stocks. The AMC, then, defined micro-cap as those ranking from 301 onwards in terms of market capitalization. It now follows a small-cap fund mandate, investing a minimum of 65% of its assets in stocks ranked 251 onwards.
The fund was considered a star performer in the category for a couple of years.
In small and micro-cap funds, managing liquidity effectively would become a challenge as the fund grows bigger. The DSP fund had to restrict inflows multiple times.
Sundaram Mutual Fund also launched a series of close-ended funds called—long-term micro-cap tax advantage funds—before 2017. Even these funds defined micro-cap as those stocks ranking from 301 on the National Stock Exchange. While a few have matured as of date, there are four series (series III to series VI) that will mature in either 2026 or 2027, as per the AMC’s website.
These funds came with an investment horizon of 10 years and, as of April 2023, have generated returns of just 2-4 percentage points higher than the Nifty Small Cap 100 TRI index, since inception.
Should you invest?
Many advisers and distributors avoid this micro-cap space entirely because of the volatility and the high-risk levels. Those who see some merit in investing in this space recommend investors to be highly cautious. Advisers are further divided on whether one must choose an active or a passive fund in this space. However, there are no actively managed funds in this space yet, but these are expected to be launched soon.
“There’s more scope for generating alpha through active management of funds in this space but a more conservative way for investors is to invest through index funds,” added Vishal Chandiramani, chief working officer at Trust Plutus Wealth.
“If you make the appropriate resolution in choosing a fund supervisor, you might make 40-50% increased than what an index fund does. But if the decision goes fallacious, you’ll be able to even lose your cash. The distinction between one of the best and the worst fund’s efficiency on this house could possibly be too numerous,” said Santosh Joseph, founder of Germinate Investor Services.
Micro-cap investing is only for people with a very high-risk appetite. “One can consider a small portion of the investment in small-cap allocation to invest in micro-cap funds,” mentioned Chandiramani.
Is decrease liquidity a problem?
The decrease liquidity for firms within the micro-cap house poses a major problem. Liquidity refers back to the ease with which an asset may be purchased or bought with no important influence on its worth.
As per a Motilal Oswal report, it takes shut to a few days to commerce ₹100 crore. For index funds, because the portfolio rebalancing occurs with the change within the index weights and parts, shopping for and promoting firms could possibly be a problem. This can be pronounced as the dimensions of the fund grows greater.
Pratik Oswal, head of Passive Funds at Motilal Oswal Asset Management, mentioned “Liquidity could possibly be a problem however we’re assured of managing the fund, given our expertise with our small-cap index fund. Managing successfully is our precedence over increased AUM. We don’t see any challenge for the subsequent few months. As the AUM of the fund grows, we may additionally think about limiting inflows (after ₹500 crore).
When investing in a passive fund, be aware that the monitoring error of those funds could possibly be increased than that of small-cap passive funds as a result of liquidity points within the house, mentioned Nirav Karkera, head of analysis at Fidom. Tracking error measures how nicely the scheme has managed to duplicate the benchmark index. A decrease monitoring error is taken into account higher. Motilal Oswal Nifty Small cap 250 Index Fund’s latest monitoring error stood at about 0.2.
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Updated: 16 Jun 2023, 12:38 AM IST
